Using a 529 Plan for Retirement

Retirement savings should take priority over college savings. With college, you have some flexibility with financing, but you can’t borrow money for retirement.

-Fidelity

To have a good chance at a comfortable retirement, it is important to fully fund your 401k/403b and Roth IRA before funding a 529 plan to save for a child’s college education. However, after maximizing tax-deferred savings plans for retirement, the 529 plan is actually a pretty good backup retirement savings plan. This is true even if you don’t end up having to pay college tuition for kids.

The money going into a 529 is post-tax but the assets grow tax-free and may be withdrawn tax-free. In some states, the contribution is also tax-deductible. Each person can contribute up to $14,000 per year. A couple can double that contribution. There is also an option called “superfunding,” which allows 5 years worth of contributions ($70k/$140k) at one time, as long as no further deposits are made for 5 years.

Don’t Fear the 10% Penalty

What if you would rather use the 529 account for purposes other than funding college education (like retirement expenses)? No problem! While a withdrawal for purposes other than education expenses is taxed as income and assessed a 10% penalty, you shouldn’t be deterred as the tax-deferred growth outweighs the penalty over time.

Yes, Even Your Mother-in-Law

As the account grows tax-deferred, you can switch beneficiaries at any time. Here is a list of qualified beneficiaries:

Of course, the assumptions in this calculation depend upon future tax rates and the sequence of future investment returns.

In conclusion, don’t let the 10% withdrawal penalty scare you from using the 529 as a stealth retirement plan. Once your tax-sheltered retirement plans are fully funded in any given year, there is no downside to establishing a 529 plan even if you never have a college-bound child.

Choosing a 529 Plan

Many states have state-specific 529 plans. However, residents are not limited to investing in their own state’s plan. Another state may offer a plan that performs better and has lower fees. If there is no tax break offered for an in-state plan, then shop for plans from other states. The plan chosen does not affect which state the student enrolls in. An investor can live in NJ, invest in a plan from UT, and send a student to college in FL…or even pay a retiree’s rent in AZ.